Stephen Roach on Japan Quake Consequences

There's been something of a proliferation by the commentariat on the economic effects of Japan's crisis. Martin Wolf was among those first out of the chute with a paean to its historical resilience to such events which it both prepares for quite thoroughly and has experienced in the past. Moreover, he argues that Japan's private sector runs a surplus more than sufficient to cover government deficits. In the (virtual) pages of al-Jazeera, though, Morgan Stanley's Stephen Roach offers an altogether more pessimistic take--especially on the knock-on effects of this very unfortunate tragedy.

Though the entire op-ed is worth reading, I'll excerpt what he think it means for subrime crisis-hit countries that have already run out of ammo in terms of using accommodative policies:

Alas, there is an added complication that makes today's shocks all the more vexing; governments and central banks have exhausted the traditional ammunition upon which they have long relied during times of economic duress. That is true of both monetary and fiscal policy – the two mainstays of modern countercyclical stabilization. Interest rates are close to zero in the major economies of the developed world, and outsize budget deficits are the norm. As a result, unconventional – and untested – policies such as "quantitative easing" have become all the rage among central bankers.

Previously, such unconventional policies were viewed as a temporary fix. The hope was that policy settings soon would return to pre-crisis norms. But, with one shock following another, the "exit strategy" keeps being deferred. Just as it is next to impossible to take a critically ill patient off life-support treatment, it is equally difficult to wean post-bubble economies from their now steady dose of liquidity injections and deficit spending. In an era of extraordinarily high unemployment, political pressures only compound the problem.

This raises perhaps the most troublesome concern of all - with a post-crisis world getting hit by one shock after another, and with central banks having no latitude to cut interest rates, it is not hard to envision a scenario of open-ended monetary expansion that ends in tears. The dreaded inflationary endgame suddenly looms as a very real possibility.

While Roach concurs that Japan will eventually go back to normal, what passes for normal nowadays will not likely generate enough momentum to bring itself out of the slumber it has been in since the bubble burst in 1990:

None of this detracts from the resilience factor. Yes, Japan will rebuild, which will undoubtedly spur some type of recovery in its disaster-battered economy. That happened in the aftermath of the Hanshin (Kobe) earthquake in 1995, and it will happen this time as well.

But, just as the post-Kobe rebuilding did little to end the first of Japan's lost decades, a similar outcome can be expected this time. The upside of rebuilding – beyond the urgent restoration of normal life for thousands of people – is only a temporary palliative for an impaired economy.

That is only one of the lessons that Japan offers the rest of us. The Japanese economy has, in fact, been on the leading edge of many of the more serious problems that have afflicted the global economy in recent years. From asset bubbles and a dysfunctional financial system to currency suppression and monetary-policy blunders, Japan has been in many respects the laboratory of our future.

Unfortunately, the world has failed to learn the lessons of Japan. And now it risks missing another important clue. The significance of the earthquake and tsunami of 2011 is not the relatively low magnitude of Japan’s direct impact on the broader global economy. The more meaningful message is how these shocks box the rest of us into an even tighter corner.